3/23/2009 @ 6:00AM

How E-Books Make (A Lot Of) Cents

Many people, both inside and outside of the publishing and media industry, are skeptical about the potential of paid content on mobile phones, especially given the troubled history of e-books. I beg to differ. In December 2008, O’Reilly’s “iPhone: The Missing Manual” was published as an iPhone app. Since its release, the app has outsold the printed book, which is a best seller in its own right. We’re learning a lot from the experience. Here our some of the questions that we’re starting to answer.

Was the iPhone app for the “Missing Manual” an anomaly? After all, iPhone owners are the most likely audience for the “Manual.”

O’Reilly: Conventional wisdom suggests that when choosing pilot projects, you pick ones with a high likelihood of success. This was a best-selling author on a red-hot topic. We’re gearing up to release about 20 more books as iPhone apps, but realistically we don’t expect any of those to sell as well as this first one.

Is the iPhone the most convenient place to get content about problems you’re trying to solve on a computer?

For many of our readers, a first or second pass through one of our programming books is mainly about orienting to the landscape and getting a sense of the platform and what’s possible, not about solving a particular problem at hand. The iPhone is a perfectly suitable environment for that kind of reading.

Won’t you make less money selling iPhone apps than books? The computer book market is the computer book market, period. It has a certain size, and that’s it. If you convert that market into iPhone app buyers instead of book buyers, say good-bye to your publishing business.

It would be economically bad news to sell a $5 product to someone who would otherwise pay $50. But it’s good to sell a $5 product to someone who would not otherwise be a customer (provided, of course, that the marginal revenue exceeds marginal cost). For Safari Books Online, for direct sales of our e-books and now for this (single) iPhone app, the data suggests that they have created growth without sacrificing print market share. For example, our market share for printed computer books sold at retail was 14% in 2004, and is now 16%. According to Nielsen Bookscan data, the print version of iPhone: The Missing Manual has sold nearly as many copies as the next two competing titles combined in the time period since the app version went on sale in December.

This data only goes back to mid-January, but the 90-, 30- and seven-day averages on Amazon sales rank for the printed book have been steadily improving, suggesting that sales of the iPhone app version are not cannibalizing print sales–and may even be helping them.

I can’t share specific numbers, but in terms of units sold, we’ve effectively doubled sales for this book by offering it as an iPhone app.

It’s true that the revenue per unit for the app is smaller than for a book, but our costs are lower, too. The app does not require the upfront expenses that printing paper books does–a crucial consideration at a time when cash flow is more important than ever.

This is a simplification, but before Dec. 17, the world was divided into two groups–people who would pay $24.99 for iPhone: the Missing Manual as a book and people who wouldn’t (either because it wasn’t worth it to them or they didn’t know about it). We’ve since subdivided those groups and found that some people in the “won’t pay 24.99″ group will pay $4.99 for the app (and some of those then buy the book too). We also found some people in the “paid $24.99″ group who would pay an additional $4.99 for the App too.

But it looks like there just isn’t any growth opportunity for the content you are currently producing. Only conversion opportunities for the customers you currently sell to, and those conversion opportunities are actually more of a threat.

I don’t accept that there is no growth. Roughly a third of the sales of that iPhone app (and approximately that many across all of our e-books) come from overseas. There is enormous opportunity for our content internationally, especially since English remains the primary language of business and technology worldwide. There may well be minimal growth opportunity for our printed books sold at retail in the U.S., but that does not mean there is no growth opportunity for the content we are currently producing. Mike Hendrickson recently did a really great analysis of the relative growth in e-books compared to print that includes a ton of great data.

In the music world, we’ve seen sales of CDs fall steadily as online music purchases have grown. Won’t the same phenomena happen in books?

For some types of books, absolutely. Customers don’t buy products; they buy things that solve their problems, things that do a “job” for them. That means they buy things to entertain them, to inform them, to teach them. That may mean a book, or it may mean a movie, a game, a class or any number of other choices we all now have literally at our fingertips.

Your marginal cost of selling an app may be smaller–but what about your fixed costs? Don’t the printed books, with their higher prices and more generous margins, still foot much of the bill?

“Customers do not see it as their job to ensure a profit for [businesses]. The only sound way to price is to start out with what the market is willing to pay–and thus, it must be assumed, what the competition will charge–and design to that price specification.”

If the market opportunity is for $4.99 or $9.99 digital books, then we need to figure out how to satisfy that demand profitably and not waste energy trying to “convince” customers that the price should be higher. When we tried a higher price point for that iPhone app (raising it from $4.99 to $9.99), sales fell by 75%! That’s a price-elasticity of demand of 1.8–in other words, at $19.99, we’d sell less than five a day.

On a platform like the iPhone, customers aren’t comparing books to other books; they’re comparing books to games, music, movies and tens of thousands of other choices that dwarf the inventory at even the biggest bookstore.

What if only electronic sales grew, and printed sales stayed flat? When would you have to raise the price of the electronic product?

The truth is that nobody knows. But this is the time to experiment, when mistakes are cheap. In the digital world, content itself is rarely what’s most valuable–what people pay for is packaging and convenience. The only way to support higher prices is to provide something besides the content that customers value. For example, when someone buys an e-book directly from our Web site (as opposed to from a reseller like Amazon), we give them three different formats, free lifetime updates and we don’t apply any copy-protection to the files. We’ve been able to sustain prices at 80% of the printed price, and as of December 2008, we now sell more e-books than print books from our site.

In the music world, someone who really gets that content/value point is Trent Reznor. There’s five different prices for one of his albums, ranging from free to $300–the $300 “limited edition” version sold out in less than 24 hours.

Do you believe that publications (such as newspapers) will be able to convince readers to pay subscription fees just because stories are delivered on an e-book?

That’s already happening on the Kindle–again, readers are paying for packaging and convenience, not for content. Any business model built around “convincing” readers to pay for content will fail. Newspapers are mistaken if they think they sell content to readers. What they really sell is reader attention to advertisers. That attention is a genuinely scarce resource, but the problem is that the newspapers don’t own it. For a very long time they offered packaging and convenience that was valuable enough to attract reader attention, which the newspaper could then resell at a markup to advertisers.

Will people like the experience of reading a fiction book on an iPhone or are iPhone-like devices better for manuals than for narrative prose? How is that experience different or the same for the Kindle?

People are downloading more than 50,000 books (most of them free “classics”) a day to their iPhone using the Stanza App. Fiction works great digitally, because it’s usually just plain text, no different really than the inordinate amount of e-mail and text messages most of us are constantly reading.

Did you change your production process–or even how the book was written–to accommodate the form factor (iPhone or even Kindle)? Would you expect to do that in the future?

During the past three years, we’ve invested heavily in retooling our production process to better support multiple digital outputs from a single source. Many publishers are making a huge mistake by treating e-books as an afterthought. Only after they’ve created the printed version do they turn over the content (usually to an outsourced firm) for conversion into e-book format. Something my colleagues are probably sick of hearing me say around the office is that these are not printed books that we happen to sell in digital format–they’re digital books that we might happen to sell in print. All publishing is now digital publishing, and all writing is now writing for the Web.

Andrew Savikas is Vice President of Digital Initiatives at O’Reilly Media. He blogs at toc.oreilly.com and is also a regular contributor to the O’Reilly Radar blog.